business and the owner-dentist. The dentist is entitled to all profits and is responsible for all business’s debts, losses and liabilities. This low maintenance business structure costs almost nothing to create and is relatively easy to establish.
Because the dentist and the dentist’s business are one and the same, the business itself is not taxed separately — the sole proprietorship income is your income. The dentist reports income or losses and expenses with a Schedule C and the standard Form 1040. Because the dentist is the sole owner of the business, the dentist has complete control over all decisions — he or she isn’t required to consult with anyone else when the dentist needs to make decisions or wants to make changes.
Because there is no legal separation between the dentist and the dentist’s business, the dentist can be held personally liable for the debts and obligations of the business. This risk extends to any liabilities incurred as a result of employee actions. Note, however, that the dentist will remain liable for professional malpractice individually regardless of business structure.
Furthermore, a prudent dentist will purchase a reasonable amount of professional liability insurance to afford protection (covering legal defense costs as well as any settlement or judgment amounts) from malpractice lawsuits. A sole proprietorship will not afford protection against non-professional liabilities, such as the patient who slips and is injured in the waiting room. A business format such as a corporation will help protect the dentist’s personal assets from these non-professional liabilities, but will not protect assets that are part of the practice. To protect practice assets, other types of insurance such as general liability coverage should be considered in these litigious times. However, insurance can be expensive, deductibles and co-pays apply, and potential sources of liability keep expanding. As a dentist starts to accumulate more personal assets outside the practice and the practice itself grows, liability issues become more important and may lead the dentist to conclude that he or she has outgrown the sole proprietorship format. Some other factors that influence the business format decision will be discussed in the subsequent sections.
15. What Are the Pros And Cons of a General Partnership?
A partnership is a business arrangement where two or more dentists own the practice together — for example, if two or more dentists wish to operate a practice together. These dentists should understand the economies of scale achievable by working together and agree upon an arrangement to share costs and profits. The dentists may consider establishing a general partnership, under which the partners share decision-making as well as financial risk. Similar to sole proprietorships, general partnerships retain full, shared liability among the owners. Partners are not only liable for their own actions, but also for the business debts and decisions made by other partners. In addition, the personal assets of all partners can be used to satisfy the partnership’s debt.
Another risk is that the vision and enthusiasm that the partners had when they started the practice can sometimes wane. As in a marriage, disagreements or disgruntlement can arise which can cause an unfortunate split of the practice. For that reason, it is very important that a group practice have a formal written agreement setting forth the parties’ understanding of the relationship — profits, expenses, decisions, what happens upon termination, and so forth. The agreement should be drafted by an attorney, and should reflect the parties’ expectations and understanding of the partnership.
Although the partnership will need to file a separate informational tax return, the partnership does not generally itself pay tax but, rather, income and losses are allocated among the partners based on their agreed percentage, and the partners pay taxes as part of their own personal returns. There is no additional partnership tax (with limited exceptions at the state level in a few jurisdictions).
Next to sole proprietorships, general partnerships are the simplest legal format, requiring less administrative detail and fewer associated costs than the formats to be discussed below. But in a general partnership, liability and decision-making must be shared.
Keep in mind that you must tailor any partnership agreement to meet your needs and to satisfy state law requirements. Your counsel can draft an agreement and help determine what is right for you.
Related References and Resources
• Appendix 1: Checklist of Questions to Ask When Forming a Group Practice
16. Does a Limited Partnership Have Advantages Over a General Partnership?
It depends. A limited partnership differs from a general partnership in that it has two separate classes of membership: a general partner or partners, and limited partners. The general partners hold the management and decision-making authority for the practice. They also are individually charged with liability that might exceed the assets of the practice. The limited partners, on the other hand, do not have decision-making responsibilities, nor are they individually liable for liabilities of the practice (other than their own malpractice) that exceed their own investment in the business. In that sense, limited partners are much like individual stockholders in a public corporation. They have no real say in how the business is operated, but the most they can lose is the money they invested in their limited partnership interest.
At the same time, a limited partnership is similar to a general partnership in many ways. Partners associate together to share profits and expenses, and will have an extensive written agreement setting out the legal and financial elements of operating the practice, dealing with any termination of the business, admitting new partners, and so forth. The limited partnership files an informational tax return but taxes are paid by the individual dentist members, not the partnership itself.
A limited partnership requires more attention to detail and more filings than a general partnership. It can be formed only by making a statutory filing with the Secretary of State or similar governing office in the state of organization. A partnership agreement is essential for that filing and is more elaborate than a general partnership agreement. Annual filings with the state authority also are necessary, as well as federal and state income tax returns.
A limited partnership does have one important advantage over a general partnership, in addition to the fact that limited partners face a finite amount of risk on liabilities of the practice. Although the precise opportunities and limitations are well beyond the scope of this section, generally speaking, a limited partnership can slice and dice profits, losses, tax credits, required investments, and capital gain/loss in any way (proportionate or disproportionate) that the parties choose. To take some simple examples, a limited partner who has more assets to invest in the practice than the others might receive all the profits until that dentist has “recouped” his or her investment, and thereafter profits might be divided according to set percentages. A partner who has substantial other income — such as from a spouse — might negotiate to be allocated more of the anticipated early year losses from the practice. A partner who has substantial net operating loss carryovers from a prior business might want to be allocated more of the taxable income (but not cash flow).
Because of these tax advantages, limited partnerships are attractive formats for specific, one-time investment opportunities. One such example would be a real estate purchase, where certain investors are willing to invest money for profit but have no expertise or interest in managing the property, much less any desire to take on liability risk. The format is much less attractive for an operating business like a dental practice because a dentist who invests money in the practice will usually want to have a vote in how it is run. The new dentist who is associating with an established practice usually has little money to invest and is often taken on as an associate until such time as sufficient mutual trust is developed to allow that dentist to
